If you are in the business of renting property, the IRS is going to take a very close look at your tax return beginning this year. Here is the one audit red Flag to watch out for.
If you are in the business of renting property, the IRS is going to take a very close look at your tax return beginning this year and will continue to do so for the foreseeable future. In December, the Treasury Inspector General for Tax Administration (known as TIGTA) published an audit report analyzing the income tax reporting practices of individuals who own rental properties. The report made specific recommendations to the IRS on how to handle tax returns that show losses from rental income. TIGTA produced the report and related recommendations in response to a Government Accountability Office estimate that 53 percent of taxpayers with rental property income underreported their income.
How much money are we talking about?
TIGTA estimates that the amount of underreported income exceeds $12.4 billion. The income tax that would have been derived from these additional revenues is part of the tax gap that the IRS is trying to close. TIGTA, however, also estimates that the amount the IRS can recoup by implementing its recommendations would generate approximately $27.3 million for the IRS over a five-year period. This isn’t very inspiring considering that on an annualized basis this additional tax revenue represents roughly what the federal government spends in about 45 seconds.
Where does this data come from?
The IRS conducts what are known as “compliance initiative projects” or CIPs. These projects are “any activities involving contact with specific taxpayers within a group, using either internal or external data to identify potential areas of noncompliance within the group, for the purpose of correcting the noncompliance.”
It’s basically a way to find trends or patterns in noncompliance and address them. The IRS has a CIP for real estate income and identified specific red flags during the CIP that led them to believe that income underreporting is taking place.
What will the IRS do differently as a result of this report?
The IRS will implement the following recommendations made by TIGTA:
Want to read more tax tips? Check these out:
Recommendation 1: Apply CIP criteria to tax returns with rental real estate activity
Based on the criteria used by the CIP to identify areas of noncompliance with rental losses, the IRS will review additional returns more broadly and flag suspect returns for auditing. This will increase the number of returns being selected for auditing.
This recommendation will be implemented on July 15, 2013.
Recommendation 2: Revise instructions for Form 8582
The IRS divides business income into two categories: Passive and non-passive. Passive activities are those where the taxpayer does not actively participate. If you run a hardware store, that is a non-passive activity.
Go to the article: The 1 Audit Red Flag To Watch Out For
